Post-Holiday Chinese Market: Five Key Factors, Part 1

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Includes: CAF, FXI, PGJ
by: Susan Weerts

On the last trading day of September before the long National holiday, Shanghai composite was up a slight 0.9% at 2779.43 on a low volume. The news that China Banking Regulatory Commission approved CNY 10billion funds to be released into the market after the holiday propelled the market above 2800 in the middle of day. However, the market retreated ever since. Advance : Decline ratio was 3.5:1. Overall, Shanghai composite fell 6% in the third quarter of 2009.

October will be a short trading month, only 16 trading days. What will the market looking for after the long holiday?

Economic Growth

The government massive stimulus plan successfully turned the corner in Chinese economics. GDP growth rebounded to 7.9% in the 2nd quarter of 2009 from 6.1% in the 1st quarter. The market is waiting to see whether the macroeconomics data will show an accelerating recovery in the 3rd quarter of 2009 and keep its momentums in the 4th quarter of 2009.

The latest economics data showed that PMI in September rose to 54.3%, up 0.3% from August. Its steady increase indicted that Chinese economics continued its track of recovery. However, it fell short of the market expectations. The market expected 1% increase from August. The surveyed Purchasing Price index dropped 5.1%. The bright spot was that new export orders and employment were up by more than 1%.

The National Bureau of Statistics of China will release the key economics data of the third quarter in the mid-October. The direction of the market will be hinged on how well those data meet the expectations and its outlooks on the 4th quarter. The current consensus on the 3rd quarter GDP growth was around 9.0%. Many analysts projected the 4th quarter GDP growth above 9.5%. Some even predicted it as high as 12.5%.

The market expected CPI and PPI to be flat in October and turn positive in November.

On a side note on the Chinese currency, the data by Bank for International Settlement showed that the real effective exchange rate of Chinese currency fell 4.5% in the first 7 months of 2009. In spite of all the political rhetoric, it is unlikely that China will abandon the dollar peg any time soon. Stephen Green, Chief economist at Standard Chartered Bank, laid out two conditions before any major currency actions. First, Chinese export has to return to double-digit growth. Second, CPI rose above 3%. Chinese export posted 23.4% decline and CPI was negative in August.

Monetary Policy

In its minutes of the quarterly meeting by the monetary policy committee released on September 29, the central bank of China will continue its moderately loose monetary policy in the remaining of 2009 and some part of 2010. It also commit to further improve the transmission mechanism of monetary policy to maintain ample liquidity of the banking system and guide the monetary credit "reasonable moderate" growth.

However, the economists attending the meeting offered different views on how the central bank should conduct its policy in the remaining year. Some suggested that the total bank loans should not exceed CNY 10 trillion in 2009 in order to control the credit risks. The data released by PBOC indicted that the bank loan from January to August 2009 stood at CNY 8.15 trillion, up by more than CNY 5.04 trillion for a year ago. The other still saw the needs for proactive loose policy to stimulate the economic growth.

Economists agreed that it is unlikely that the central bank will raise the interest rate and reserve ratio any time soon. The central bank will increasingly use the Open Market operation to mop up the excess liquidity. The yield curve steeped slightly after the meeting. As by September 23, the central bank withdrew CNY 783 billion from the circulation.

People's Bank of China will release its September balance sheet around October 17. There is no doubt that it will be heavily scrutinized. The market expected the bank loan in September to be slightly higher than in August. Some predicted it could be as high as CNY 500billion.

Besides the bank loans, M1 and M2, investors should also pay attention to “Position for Forex Purchase” (known as foreign exchange reserve) and “Household Savings Deposits”. In August, the increase on Position for Forex Purchase” was CNY 118.75billion, a smallest increase in 9 months. Yet, the trade surplus and Foreign Direct investment (FDI) posted increase in August. By the formula of “hot money inflows=monthly increase in foreign exchange reserves-the trade surplus-FDI, it indicted a possible outflow of hot money in August. 5 major Chinese banks raised the foreign currency deposit rates while held the local currency rates steady in September. The new rate in China Merchant Bank indicted the 3-month rate of US Dollar at 0.5% and the 1-year rate at 1.25%.

Household Saving Deposits have been in a consecutive decline since July. Household saving deposits dropped by CNY 43.99billion in August. Many believed it reflected the increased risk appetites of the retail investors. After witnessing the stock market reach its highs in July, many retail investors withdrew the money from the banks and put it into the stock market.